Fair Maidens, Dragons and Golden Mountains

December, 2015

We are dealing with a couple of known unknowns in our look at the future of the economies in the developed world. My suggestion in my last piece was that these economies are faced with deflation and population decline, both of which are interconnected. My feeling is that these conditions are unknown to the world’s developed economies. They are, as cultures, sailing toward a dimly recognized territory.

Further, there are a couple of assumptions that have been around for as long as economics has been studied: that populations only increase and that inflation is the ‘dragon’ that has to be tamed if there is to be sustainable prosperity. In this way of thinking, sustainability means price stability.

It would seem, however, that the future may contain two ‘dragons:’ the known one of inflation and the one known in theory but unknown in combat, that of deflation. Yes, there was some deflation in the Great Depression, but it was seen as a temporary condition. Also, there have been price collapses in various commodities at times, including today, but these are temporary, caused by production outrunning demand.

But what about deflation as a chronic condition? Can we deal with such deflation in the same way as we dealt with inflation? If the chronic inflation of the late 1970s required 20 per cent interest rates to subdue it, so, must chronic deflation require the opposite — negative 20 per cent interest rates, where people lose part of their savings and thus are encouraged to spend? This sounds like something out of ‘Alice in Wonderland,’ but the future will be quite odd-looking as Europe and East Asia, Australia and Canada all slip into population decline.

Now, we know from fairy tales that a fair maiden is always in distress until the stalwart knight comes to save her from the dragon. Japan is the developed country with the oldest (and now declining) population; and its economy is a fair maiden in distress. As the noble knight, the Japanese government has been attempting a rescue by simply flooding the country with money, a kind of super quantitative easing (QE), hoping the deflation dragon will go away. With Japan slipping into recession for the fourth or fifth time in a decade and with rather little inflation on the horizon, it appears that existentially they, and we, haven’t got very far in dealing with this dragon.

If you accept that a shortfall in births is the common underlying cause of population decline and chronic deflation, then it follows that stability can only be achieved by countering this reality. But all of the direct solutions collide with national cultures. Do we encourage immigration? Do we incentivize or force the birth rate to rise? Do we incentivize or force people to work longer into old age, or lower the child working age? Do we let others do the work and appropriate their production? All of these population solutions imply culturally unacceptable futures.

So the Golden Mountain in our tale has to be the other element besides population underlying economic growth: productivity. Different commentators on this problem have suggested that as long as the productivity rate increases faster than the population declines, then the remaining population will live better than before. Of course, there are a lot of ‘ifs’ that need to be answered in order to get at the ‘gold’ in these mountains.

The first is that we don’t seem to understand what productivity may entail in the computer age. Our definitions were derived in the 1930s in response to the need to better understand the economy of the times, which was dominated by physical production from farms and factories. One example is the common breakdown of the economy into primary, secondary and tertiary or service sectors. Today, this characterization is a joke, since the service sector comprises nearly all of the economy. If one of three sectors is 80% of the whole, then our definitions are no good.

The second problem is that productivity is not a useful tool to measure what is happening as parts of the economy are successively disrupted by information technology. Does my adopting Uber for my car, or AirBnB for my apartment, increase the productivity of these pieces of property? Is Wikipedia more productive than an encyclopedia? Does laying off a travel agent because I and others are using the web to reserve flights increase or decrease productivity? Until we get a new way to measure what is happening in productivity, we are in the same confused position as economic policymakers were in the early 1920s.

These criticisms being made, there are some things that, however unconventional, do emerge. The first is a reversal in the labor/capital situation in society.

Traditionally, capital has been expensive, and labor cheap. Today it is the other way around. When you have a labor shortage in a society that is growing, or in one where growth is desirable, the obvious policy ought to be one that makes the scarce factor more expensive, thus encouraging the substitution of capital for labor. Get rid of capital taxes and raise payroll taxes.

A couple of policies to increase labor participation are to reduce the school age to six months and to extend the retirement age to at least 70. In every developed country there are many schoolrooms that are underused or vacant. At the same time, depending on mom-and-pop daycares is a haphazard way of providing mothers with the freedom to enter the workforce. School changes are the only means to bring daycare/early childhood education to every family, rich or poor.

Today, the average retirement age in Canada is 62 and the average retiree should live into his or her early 80s. That is a 20-year ‘gap’ when people are making much less income and paying much less in taxes. Given where pension systems seem to be going, sliding into genteel poverty is hardly the best use of human resources in a country. We need to have people working later in life and our pension systems ought to reflect that. Even part-time is better than nothing when there is a labor shortage.

To go back to our known unknowns theme: we have seen mountains off in the distance and they may contain the Seven Cities of Cibola; there are maidens in distress from threatening dragons. That may be enough to propel us into exploring a new terrain, but make no mistakes and fall into a policy swamp. Explore carefully and thoroughly. We aren’t there yet, but we will come ashore into a new economy soon.

Whether the economy is to go into a slow decline, suffer stagnation or enjoy modest growth will depend on our willingness to effect cultural change and adapt to a somewhat different reality.

 Copyright Jim McNiven 2015

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Jim McNiven’s latest book is The Yankee Road: Tracing the Journey of the New England Tribe that Created Modern Americawww.theyankeeroad.com

Jim McNiven

James McNiven has a PhD from the University of Michigan. He has written widely on public policy and economic development issues and is the co-author of three books. His most recent research has been about the relationship of demographic changes to Canadian regional economic development. He also has an interest in American business history and continues to teach at Dalhousie on a part-time basis.






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